S&P Could Test 3900 On Overbought Strength Before Significant Pullback Unfolds

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Good Morning, this is Capital Essence’s Market Outlook (the technical analysis of financial markets) for Friday February 5, 2021.

Stocks closed higher Thursday as tech and cyclical stocks racked up gains like banks as investors bet on the economy charting a faster recovery amid an improving backdrop.  The Dow Jones Industrial Average rose 1.1 percent to 31,055.86. The S&P climbed 1.1 percent to 3,871.74. The Nasdaq Composite jumped 1.2 percent to 13,777.74.  The CBOE Volatility Index (VIX), widely considered the best gauge of fear in the market, fell 5 percent to 21.77.

The signs of an improving economy coupled with expectations for speedier vaccine rollout in the months ahead have pushed U.S. Treasury yields higher, widening the 5-to-30 year treasury curve – a gauge on the health of the economy – by the most since March 2016.  JPMorgan Chase & Co (JPM), Bank of America Corp (BAC) and Wells Fargo & Company (WFC) were up more than 2 percent.   As such, the Financial Select Sector SPDR Fund (XLF) rose 2.22 percent on the day and is up about 53 percent YTD, outperformed the S&P.  Now the question is what’s next?  Below is an update look at a trade in XLK.

The graphics below are from our “U.S. Market Trading Map”, show the near-term technical bias and trading ranges.  As shown, the underlying is in a short-term bullish trend when the price bars are painted in green.  The underlying is in a short-term bearish trend when the price bars are painted in red.  The yellow bars identify period of neutral or sideways trading pattern.  Additionally, the light-blue shading represents the short-term trading range.  A move above or below that range is considered overbought (as represents by the red shading) or oversold (as represents by the dark-green shading).  Readings above or below the red and green shaded areas are considered extremely overbought or extremely oversold.

Chart 1.1 – Financial Select Sector SPDR Fund (weekly)

Our “U.S. Market Trading Map” painted XLF bars in green (buy) – see area ‘A’ in the chart.  Over the past few weeks, XLF has been trending lower in a short-term corrective mode after the November rally ran out of steam near the prior high set in early 2020.  The correction tested and respected support at the 2020 rising trend line. This week’s bullish reversal suggested that XLF will climb to new high as soon as it works off excessive optimism.  Right now the most important thing to watch is trading behaviors as the 31.50 zone is tested as resistance.  A close above that level on a weekly closing basis signifies a bullish breakout and trigger acceleration toward the 38 zone, or the early 127.2% Fibonacci extension.

XLF has support just above 29.  Short-term traders could use that level as the logical level to measure risk against.

Chart 1.2 – S&P 500 index (daily)

Short-term technical outlook remains bullish (buy).  Last changed February 2, 2021 from bearish (sell) – (see area ‘A’ in the chart).

[Note: for more details analysis, please take a look at our “US Market ETF Trading Map”]

S&P moved up to test resistance at the lower boundary of the red band, or extreme overbought zone, after recent pullback found support near the trend channel moving average.  Money Flow measure climbed above the zero line, indicating a positive net demand for stocks.  Momentum has been strengthened but the return of overbought conditions on an intraday basis will put a cap on the upside.  With this in mind, we’d look to reduce exposure into overbought strength, which might take the S&P closer to 3900 before a significant pullback unfolds.

Short-term trading range: 3800 to 3880.  S&P has support around 3800.  A failure to hold above that level has measured move to around 3735.  Resistance is around 3880-3900.  A sustain advance above that level has measured move to 3950.

Long-term trading range: 3300 to 4300.  S&P has support near 3600.  A failure to hold above that level has measured move to 3300.  The index has resistance near 4000.  A close above that level has measured move to 4300.

In summary, S&P moved up to test resistance at the lower boundary of the red band after recent pullback found support near the trend channel moving average.  Overbought conditions have returned on an intraday basis but momentum remains supportive so downside risk could be limited. It is possible that S&P could continue to drift higher as trading sentiment remains strong.  With this in mind, we’d look to reduce exposure into overbought strength, which might take the S&P closer to 3900 before a significant pullback unfolds.

 

Thanks and happy trading.

(By:Michelle Mai for Capital Essence)

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